Egypt’s annual headline urban inflation reversed 10 months of deceleration, rising to 14.4% in June from 11.5% in April, reflecting the government’s decision to increase fuel prices by 38% on average. Non-food inflation drove the acceleration, rising to 19.1% from 14.7% in May, while food inflation also accelerated to 10.1% from 8.6%. The outturn came exactly in line with our expectations. On a monthly basis, inflation jumped 3.5%, the highest since Jan 2017 and vs. 0.2% in May, driven by a 34% and 7% increase in transportation and utility prices, respectively. Core inflation was muted compared to headline, rising 1.5% M-o-M in June and, therefore, diverging with the annual indexes (see Fig. 6); we will be keeping a close eye on core inflation over the next few months to assess the extent of the subsidy cuts’ second-round effects. We note that the increases do not include the recent hike in electricity tariffs as this would start to show up in July numbers when consumers pay the new bills.

Sticking to our inflation forecasts

We keep our inflation forecasts unchanged, looking for a 12-13% range over the coming few months up to December and 12.5% average for FY18/19, taking into consideration an upcoming hike in electricity and tobacco prices. We are expecting a deceleration in inflation from June’s elevated number on the back of the positive base effect from last year and considering that second-round effects for the fuel price hikes will be relatively limited, with most food producers planning to increase prices 5-7%.

Inflation stable for longer

With inflation set to continue within the Central Bank of Egypt’s (CBE) inflation target of 13% +/-3%, we do not see CBE reacting to June’s elevated inflation reading, and, therefore, we expect policy rates to remain on hold in 2H18. Taking into account the still-elevated global oil prices, which were a key factor in driving CBE to keep rates on hold back in May, we continue to foresee policy rates remaining on hold for the coming 12-18 months. CBE is likely to be keeping an eye on upside inflationary risks next summer, when Egypt is set to liberalise its fuel prices. Currently, oil prices (USD75/b) clearly pose upside risks to the single-digit inflation targeted by CBE starting 2019, given that the initial plan for phasing out fuel subsidies was set at USD55-60/b. As we mentioned earlier, at USD75/b, reaching a cost-recovery price for diesel would require a 40% increase from current prices (even after the 51% increase in prices this summer). A key risk to our outlook is a correction to oil prices – more towards the USD60/b mark – or a change to the government’s timeline to phase out fuel subsidies.